Factors Affecting the USA, UK, Germanic and Japanese Corporate Governance models
#Corporate governance is the framework of laws, regulations and rules that govern /control the interactions and relationships between the owners, the board or the boards, managers and other parties that collectively are a part of a or any decision making process. Corporate governance came into existence to ensure that all parties can work for long-term benefits of the shareholders in a fair and ethical manner without damaging any elements of a corporation’s social responsibility
Organizations are affected by external governing factors such as laws and regulations and internal governing factors influencing the tone and the board of directors streaky, and end goal. These factors have led to the development of the four most known corporate governance models.
Factors influencing governance
Capital markets (External Factor)Capital markets are a pulse rate of a country. Irrespective of a structure, whether single board (US / UK) or a two-tier architecture (Germanic model) Capital markets pave the way for a country’s police and regulations. A survey by Mckenzy and company reflected that there is a direct correlation between capital investment and corporate governance when 60% of the respondents mentioned that they would not invest in a company with poor governance structure. Following examples provide a high-level assessment of how downfall in capital markets provoked the policymakers to come up with new laws which ultimately affected the corporate governance practices.
1929 Great depression
What went wrong :
The depression was due to the sale of securities (assets such as money, bonds, stocks and shares, debt, and financial derivatives)
Response of the policymakers :
· Enactment of #GlassSteagallACT (1933)
· Hoover and Roosevelt administration pushed the country out of depression by establishing the Securities Act of 1933 which centralized and tightened regulation the American securities industry, while the 1934 Securities Exchange Act created the US Securities and Exchange Commission
What went wrong :
The housing market collapse in 2007 was the main impetus for this crisis·
Response of the policymakers :
Enactment of #Dodd-Frank in 2010 (USA)
· Basel III rules (EU + Word)
· Subprime Housing and Economic Recovery Act of 2008 (USA)
· In December 2010, European regulators announced tough restrictions on the bonuses that banks can pay their staff. (EU)
The macroeconomic factors in the environment lead the thinking of the management by being innovative such as the creation of #CDO’s to generate additional income and proprietary trading opportunities, so some of the banks moved away from their core business to other business such as housing finance, betting against their own loans etc. (resulted in enactment of Volker’s rule from #Dodd-Frank). Such activities allowed management to get into creative accounting lead to on balance and off-balance sheet assets, which ultimately impacted the bank capital (resulted in the enactment of Collin’s amendment of minimum capital and BASEL III), information such as high exposure risks not reaching the senior management and loss of shareholders investments. Thus, Corporate governance models with remuneration systems needed to be amended in order to address the excessive risk-taking behaviour that was demonstrated during the various capital market crisis.
2. Ownership and control patterns in US, EU and Japan (Internal Factor)
Two tier board structure (a) Executive Committee (Vorstand) (b) Supervisory board of directors (Aufsichtsrat). Supervisory board appoints the management board.
· Offers co-determination by which unions can participate in the management of companies.
· Bank oriented model where the great degree of control concentration is in the hands of a handful of corporate shareholders.
· A mode where which has strong block holders and weak dispersed owners. Shareholders can vote via proxy through banks since they deposit shares with the banks
Result: The dispersed owners who hold a huge chunk of capital are at the mercy of these block holders who choose agents management to advance their interests. As a result, voting right restrictions are legal.
The ownership and control is fragmented. A wide range of laws and regulatory code define relationships between board, management and shareholders.
Result: The dispersion weakens the control of the investors allowing the board a degree of power. One of the weaknesses of Anglo-Saxon model is that due to dispersion [less voting power] direct monitoring is weak
Though the structure is same as the UK. The dispersion is overcome with the help of institutional investors. A wide range of laws and regulatory code define relationships and thus lead to the origination of “fiduciary duty” of the board.
· Unions have remained distant from the management (Lack of co-determination).
· Reduction in leverage buyouts through the advent of new regulations, poison pills, golden compensation parachute the executive’s compensation changed from cash-based to equity-based the interest and value of shareholders became more prominent.
· Non-affiliated shareholders have a say
Result: The dispersion in this case between institutional and individual gives a great deal of power to the managers, which can be witnessed in the light of the recent scandals which have majorly taken place due to unchecked influence on the board.
Characterized by a complex network of inter-corporate equity holdings, with Japanese banks at the centre of the network.
· Difficult hostile takeovers.
· The four pillars of Japanese governance are: (a) Main bank i.e. Major inside shareholder (b) Affiliated company Keiretsu i.e. a major inside shareholder (c) Management (d) Government
· Pattern of cross-holdings prevalent in Japan represents a “deliberate response by managers” to a series of hostile raids in the early post-war years. These groups are series were called Keiretsu which started cross-holdings.
Result: Large Japanese firms generally own blocks of shares in other Japanese firms, which they are unwilling to sell except in unusual circumstances. Non-affiliated shareholders have little or no say in Japanese governance. This also reflects the fact that the Japanese market believes in groups in contrast to individuals managing the markets in the US setup.
3 Failures due to unethical acts (Internal factors)The development and refinement of corporate governance standards have often followed the occurrence of corporate governance failures that have highlighted areas of particular concern. The burst of the high tech bubble in the late 1990s pointed to severe conflicts of interest by brokers and analysts, The Enron/Worldcom failures pointed to issues with respect to auditor and audit committee independence and to deficiencies in accounting standards problems associated with industry or businesses, but that they were systemic. The Parmalat (Italian) and Ahold cases in Europe or Toshiba’s accounting scandal also provided important corporate governance lessons leading to actions by international regulatory institutions such as IOSCO and by national authorities. So scandals have awakened the policymakers to place new measure and thus changing the corporate governance environment.
What went the wrong
Enactment of new regulation that impacted corporate governance
Bribery of the Japanese prime minister in 1976 or Chiquita Brand’s bribery of the president of Honduras in 1974/75 were prominent cases
Polly peck collapse
Polly Peck International grew rapidly in the 1980s from a small British textiles company to a vast FTSE 100 conglomerate corporation but imploded in 1990 with debts of £1.3bn amid claims of gross mismanagement and fraud.
Formation of Cadbury committee in the UK and the birth of corporate governance.
ENRON/ WorldCom/ Tyco
· Inflated earnings, hid debt in SPEs
· expenses booked as capital expenditure
· looting by CEO, improper share deals, evidence of tampering and falsifying business records
Birth of Sarbanes-Oxley corporate accountability law, which forces corporate executives to take personal responsibility for the accuracy of company accounts and place measures to prevent fraud. The fiduciary duty of BOD, accounting reforms, etc.
Loss of euro 1mil in health system due to fraudulent billing.
Strengthening of Administrative offences Acts towards individuals.
Discussion on new reforms and updating of the corporate governance model.
What went wrong in these cases. In terms of corporate governance, all these exposed the fact that the various elements of this system, such as
the power of stakeholders – who failed to rationally analyze their ever increasing stock price
No proper independence board – who failed to maintain their appropriate disclosures
The absence of independent gatekeepers – The Auditors were not functioning together in a complementary fashion.
Strategy – Aggressive accounting techniques. Perception of value being created. In fact, the weaknesses or limits in the effectiveness of each element seemed to potentially undermine the other
Despite the importance given to risk management by regulators and corporate governance principles, the unethical acts has revealed severe shortcomings in practices both in internal management and in the role of the board in overseeing risk management systems specially on the lines of communication of risks, even though risk management controls existed (ENRON best Standards of conduct) a clear corporate governance issue.
4. Rating Agencies (External Factor)Rating agencies are one of the biggest factors that influence the reality of corporate governance. Although the rating agencies scores are based on international practices and ownership structure and influence, financial stakeholder rights and relations, financial transparency and information disclosure, and board structure and process. Since companies like Standards& Poor’s evaluate the company based on their request, they need to pay for the ratings. As an example, moody was to pay millions of dollars prior to 2008 for deception created. The existence of relationship was itself wrong in addition to no one to regulate the rating agencies lead to the creation of credit default swaps (CDS) which was based totally on speculation and rating given by the rating agencies. I believe rating agencies in 2008 were one of the most influencing factors affecting corporate governance structure.
5 Geopolitical scenariosMarkets are global, and connected as never before; natural boundaries and limits that existed before globalization no longer exist, so problems can reach and spread far wider than in earlier times. With the trump administration taking over from the previous administration with an objective to reduce regulations in order to create a free market has impacted the governance right from the fact of repealing Obamacare to a reduction in regulations of #Dodd-Frank. While other continents create tremors in the corporate governance strategy of the countries as well as seen in the case of Brexit, which is requiring contracts to be revised as well as privacy laws to be