[Cross-posted from the Columbia Law School Blue Sky Blog]
By Afra Afsharipour and Martin Gelter
With the increasing internationalization of law and legal scholarship, comparative corporate governance has seen a burgeoning volume of research from a practical, theoretical, and empirical perspective. Practically speaking, both internationally and within individual countries, most corporate governance research deals with the interaction between board members, officers, and shareholders, primarily in large, publicly traded corporations. Much of the literature is preoccupied with reducing conflicts of interest between shareholders and management and consequently minimizing agency cost, vindicating the narrow finance perspective. Given the predominance of controlling shareholders around the globe, the literature increasingly focuses on conflicts between controlling and minority shareholders. In a comparative or international context, research also often considers all groups whose interests are affected by corporate activities and who have some degree of influence on corporations, such as creditors and employees.
In an introductory chapter to Comparative Corporate Governance, we frame the book within a broad perspective on corporate governance and cover legal duties and their enforcement, as well as the balance of powers generated by the institutional setup. Nevertheless, the interests of other “stakeholders” are very much present.
Fundamental Issues in Comparative Corporate Governance
We begin with an overview of the intellectual history of comparative corporate law and governance. During the past three decades, the volume of comparative law scholarship has grown, and the methods have shifted from the traditional functionalism represented by venerable treatises toward greater methodological variation. Maribel Sáez and María Gutiérrez put the different currents in the literature into a historical perspective. They suggest that this field has been rebranded repeatedly, moving from “comparative corporate law” through “comparative corporate governance” to “law and finance” and finally to the “theory and empirics of comparative corporate law.” Corporate law scholarship started with the doctrinal “Continental European” approach to law, but subsequently developed into a truly international field, often adopting English as its lingua franca. Comparative corporate governance then infused economic thinking into the field. Lastly, “law and finance” added a causal and empirical perspective.
In corporate law, an economic perspective dominates, and the field was further invigorated by a law and finance perspective. Not surprisingly, comparative scholarship often takes an economic view and emphasizes the incentives set by law and the interest groups whose economic interests have shaped the law across jurisdictions. Accordingly, contributions in the book address the difficult question of methodology. Vikramaditya Khanna’s chapter surveys the law and finance literature and its implications for economic development. He tackles the question of causation – does strong investor protection facilitate economic growth and developed capital markets, or do interest groups with a stake in the market lobby for strong corporate law? He suggests that “there is good evidence for a growth to law causation story and some evidence for a law to growth causation story.”
Christopher Bruner’s chapter tackles the difficult question of comparative methodology. He contrasts functionalism with contextualism, which emphasizes jurisdictional differences. Contextualists often assume a high degree of difference that cannot be eliminated because of the difficulties involved in legal transplantation. However, contextualism often fails to provide a theory for differences. Choice of method is thus typically a function of the intended audience, placing a premium on methodological self-awareness and careful calibration of one’s claims.
Other chapters give specific examples for the core debates. An example is the widely discussed, but controversial topic of convergence in corporate governance. Martin Gelter’s chapter looks at the role of interest groups, specifically the accounting industry, and suggests that it has promoted or inhibited convergence depending on the national context and its respective local incentives. Li-Wen Lin’s chapter examines the convergence debate through the lens of the legal regime on executive compensation in six jurisdictions, including the United States, the United Kingdom, Germany, Japan, India, and China. The chapter shows that, not only have the legal rules restricting the board’s power over executive pay begun to diverge in Western countries, but also directors’ power over executive pay has varied widely when one assesses the legal regime in leading Asian jurisdictions.
Corporate Purpose and Sustainability
In recent years, the debate about the proper role of the corporation in law and society has often been described as the “corporate purpose” or as the “shareholder-stakeholder” debate, but its ancient roots go back over a century. Writing in 1917, German industrialist and politician Walther Rathenau expressed deep concern about the role of short-term shareholders who expected firms to produce returns at the expense of long-term development and the public interest. The Berle-Dodd debate of 1931 in the U.S. prefigured many of the arguments of subsequent decades, serving as a template for recurring corporate purpose debates to this day. The “corporate purpose” debate has again gained traction in recent years. Two chapters tackle the debate about corporate purpose from very different perspectives.
Barnali Choudhury and Martin Petrin survey discussions on both corporate purpose and short-termism. While directors have the freedom to consider interests besides those of shareholders, as a matter of practice, most firms continue to focus on a narrow corporate purpose. They argue that this narrow vision is conducive to short-termist corporate activities and suggest several possible reforms to allow U.S. and UK firms to advance from a shareholder ideology to a broader perspective. Cynthia Williams’ chapter reviews developments relating to CSR and ESG. Williams argues that institutional investors are emphasizing ESG partly because of younger investors’ increasing interest in topics such as climate change and economic inequality, and also because the connection between companies’ better management of ESG issues and better financial performance is becoming well-established. Internationally, there is the possibility that countries with less developed social welfare systems may require a greater degree of voluntary CSR to maintain the legitimacy of the corporate governance system. Ownership structures and the predominant types of investors appear to have an impact on sustainability outcomes as well.
The Board of Directors and Its Duties
The book then turns to substantive topics in corporate governance, starting with the central players in internal corporate governance in most jurisdictions: the board of directors. National legislation provides important differences in the structure of the board, with the U.S. one-tier model and the German two-tier structure often seen as exemplars. Jean du Plessis’s chapter provides a broad survey of different types of board structures used around the world. The chapter then explores the nuances of board composition rules in various jurisdictions, including the UK, Germany, the Netherlands, China, and Japan. Despite practical differences, for publicly traded corporations in most jurisdictions, the ultimate management power is embedded in the board of directors, increasingly dominated by independent directors. Furthermore, the board of the modern public company typically is vested with a monitoring or oversight role. Klaus Hopt and Patrick Leyens argue that rather than settling on a particular board model, the law should allow corporations flexibility in the choice of a board model. They stress that focusing on the specific governance strategies available in a variety of situations, such as takeovers or related party transactions, demonstrates that boards can address the types of agency problems that arise in corporate governance in similar ways, regardless of the choice of board model. The board as an institution may also be used to hold the corporation accountable to non-shareholders, particularly employee stakeholders. It is only with employee-codetermination as a governance strategy that one needs a two-tier board model. Darren Rosenblum’s chapter tackles the issue of representation on the board, focusing on gender diversity. The chapter addresses the types of intervention models used in different jurisdictions, from the hard statutory mandates of Norway to the soft quotas and disclosure mandates in some common law jurisdictions, including the UK and Canada. Policy interventions face several challenges as diversity continues to play a prominent role in corporate governance debates.
Several chapters in the book address issues that go to the heart of board responsibilities. Marco Corradi and Geneviève Helleringer examine the duty of loyalty from a comparative perspective, including both self-dealing transactions under both common law (namely the U.S. and UK) and civil law regimes (focusing on continental Europe), as well as corporate opportunity rules. They note the tensions between the evolution of the law governing self-dealing transactions at the European level as well as the generally less advanced development of corporate opportunity rules in civil law jurisdictions.
Carsten Gerner-Beuerle examines the diffusion and convergence of the duty of care and the business judgment rule. After demonstrating how both are similarly formulated across common law and European civil law countries, the chapter compares the application of the Delaware business judgment rule with its German counterpart to show that even similarly formulated rules differ in actual operation because of underlying local norms and narratives. Virginia Harper Ho’s chapter analyzes risk oversight and risk management as core elements of the board’s monitoring role. Across jurisdictions, fiduciary duties are used to hold boards accountable for carrying out their monitoring role. Increasingly complex risk management and oversight responsibilities are now derived from and affected by multiple sources, including other regulatory regimes, market actors, and institutions, that have expanded risk regulation.
In addition, the book covers directors’ duties in times of change, specifically in the context of mergers and acquisitions (M&A). Afra Afsharipour argues that, with respect to friendly takeovers, the U.S. and UK approach corporate governance concerns and the balance of power between the board of directors and shareholders in increasingly divergent ways. The UK restrains director power in friendly M&A deals, including recent rules that constrain the power of directors to negotiate deal protection mechanisms. Delaware law provides wide latitude to directors to negotiate and design M&A deals and, due to recent changes to Delaware jurisprudence, provides little opportunity for shareholders to check management conflicts through litigation. According to Andrew Tuch’s chapter, management buyouts (MBOs) raise the quintessential type of conflicts in M&A transactions because they involve the board or officers of the target firm acting as owners of the buyer. While the UK’s no-conflict rule is often viewed as more severe than the U.S. fairness rule in regulating MBOs, in practice the rules operate in ways more similar than they seem at first glance. The chapter thus asserts that both the US and UK may not effectively prevent fiduciary misconduct early in the MBO deal process.
The Increasingly Complex Taxonomy of Shareholders
Much of corporate governance concerns itself with balancing conflicts and power between shareholders and managers, as well as among between controlling and non-controlling shareholders. Shareholders are not a monolithic group, ranging from the state, hedge funds, and institutional investors to family groups and individuals. Turning to the dramatic increase in institutional investors around the globe, Assaf Hamdani and Sharon Hannes analyze the governance implications of this rise against the background of the growing influence of activist hedge funds. In widely held companies, institutional investors can determine the outcome of shareholder votes, including director elections. Nevertheless, country-specific regulations, political sentiments and social norms affect the extent to which institutional investors will actually wield their power. By contrast, in jurisdictions with predominantly controlled companies, institutional investors’ ability to influence governance remains limited, but institutional investors are gaining power in countries, such as Israel, that are experiencing a shift from concentrated to dispersed ownership.
Minority shareholders are not homogeneous, both within and across jurisdictions, in their makeup, goals, and actions. Umakanth Varottil argues that the expanding schism among heterogenous types of minority shareholders creates agency problems, allowing one type of minority shareholder to affect the interests of others. The chapter analyzes the goals and actions of two types of institutional investors – activist hedge funds and passive funds – to show the potential conflicts among these shareholders. Legal tools, such as fiduciary duties and stewardship responsibilities, can address such conflicts.
The past two decades have experienced significant changes in capital market structures around the world, resulting in a reassessment of shareholder power and participation in corporate governance, and debates about the degree to which the law can and should provide shareholders with a voice and facilitate greater shareholder protection. Sofie Cools analyzes the transformation of shareholder power by comparing the use of shareholder proposals by shareholders of U.S. public companies with the relative lack of such proposals in Europe. Focusing on Delaware, France, Germany, Belgium, and the Netherlands, she argues that private ordering through shareholder proposals in U.S. companies is closing the gap in substantive shareholder power that has existed between the U.S. and Europe. The chapter also casts doubt on empirical comparisons of the frequency of shareholder proposals in the U.S. and Europe by highlighting how differences in ownership structures and the goals of shareholder proposals in the U.S. complicate such comparisons.
Gaia Balp and Marco Ventoruzzo focus on the rules governing the duties of controlling shareholders to minority shareholders in the U.S., Germany, and Italy. Despite differences in laws and enforcement mechanisms, the principles are functionally quite similar. Duties applying in situations such as related party transactions, sale of a control stakes, and access to privileged information are in the end similar because loyalty underpins the standards and rules for controllers’ conduct. Sang Yop Kang contrasts controlling shareholder power in corporate groups with single corporations operating various business lines. Differences arise in risk-sharing (cash-flow stabilization), control/voting leverage, and tunneling. Controllers may be more inclined to establish corporate groups than single corporations with different business lines (although controllers’ preference for the corporate-group form is not always absolute).
Enforcement of Corporate Law
Directors’ and shareholders’ duties would be irrelevant in practice if they were not enforceable. Not surprisingly, there are big international differences in this regard. The U.S. is often thought to be the country where corporate and securities laws are most vigorously enforced. This is in part due to an entrepreneurial plaintiffs’ bar, whose existence is owed largely to the American rule in civil procedure (where each party pays its own cost) and the possibility of contingency fees, which induce plaintiffs’ attorneys to bring class actions as well as derivative suits. Alan Koh and Samantha Tang’s chapter explores private litigation in corporate law. It provides a detailed taxonomy of the various types of lawsuits and their functions in the Anglo-Commonwealth jurisdictions (UK, Australia, Singapore, Hong Kong, New Zealand), the U.S., Germany, and Japan. The chapter considers key factors furthering and limiting such suits, including cost structure, length of the litigation, and possible outcomes. Besides derivative litigation, which involves remedies from which the company itself benefits, the chapter looks closely at direct suits, which have received less attention in the literature. The taxonomy encompasses monetary and non-monetary remedies and looks at oppression and withdrawal, appraisal rights, and injunctions, as well as litigation challenging the validity of shareholder decisions. Besides the U.S., there are jurisdictions where litigation has become common, such as in Japan in the area of derivative litigation, as well as in Canada, Australia ,and Israel in securities law. In all cases, cost rules have become favorable to lawsuits.
The other aspect of enforcement is the public side, i.e., enforcement by securities regulators, which relies largely on financial endowment and qualified staff. Pierre-Henri Conac’s chapter looks specifically at the enforcement of corporate governance rules, including corporate governance codes. His chapter encompasses both private shareholder litigation as well as enforcement by regulators and stock exchanges, focusing mainly on European jurisdictions, the United States, and Brazil. The chapter argues that private enforcement should be the main legal method of enforcement, but that public regulation should serve as a stopgap that remedies the deficiencies of the private model.
Conclusion
The literature shows that the comparative picture remains more complex than as portrayed by the original “law and finance” debate. This is particularly true given growing concerns around the globe with issues of sustainability and corporate purpose. However, we also can see increasing convergence in some areas, such as directors’ and shareholders’ duties as well as the enforcement of corporate law. Convergence is not universal, as the example of accounting shows. The continuing evolution of corporate governance debates means that a comparative approach to corporate governance will long prove to be insightful in understanding and analyzing corporate law generally.
This post comes from Afra Afsharipour, a professor and senior associate dean for academic affairs at UC Davis School of Law, and Martin Gelter, a professor at Fordham University School of Law and Research Member of the European Corporate Governance Institute. It is based on their introductory chapter to “Comparative Corporate Governance,” available here.
