Posts Tagged ‘Regulation’

Corporate Governance and the Sharing Economy

In a world of robots interacting with humans and learning out of the process, while connected with all other robots in a network; in a world of artificial intelligence, disruptive technologies and new business models arising from them; in this world regulation starts to change: why do we need CFA`s in a world where financial advise is produced with algorithms? In this world firms also start to reject IPOs fearing their innovation capacities would fade away, (Uber, Airbnb, …), or introduce dual-class share systems to keep control on it and the long-term perspective.

Mark Fenwick and Erik P.M. Vermeulen in a paper called “How the Sharing Economy is Transforming “Corporate Governance”, (1) refer to the new changes Corporate Governance faces and needs if boards are to gather survival and success for their companies.

For them what is relevant is whether these new big companies are able to develop a system that is inclusive of all stakeholders, (shareholders interests, oversight, and other currently accepted needs fall apart).

Screenshot - 14_05_2017 , 21_05_35

(Source (1)) Read more…

The US Corporate Governance Framework

Literature on Corporate Governance (Corpgov) often comes from the US; many Corpgov institutions have been born in the US; the big controversies regarding board effectiveness, executive pay, and any other Corpgov matter are often raised in the US…..but what is the Corpgov framework in the US? I have ofter read about the US Corpgov without having a systemic knowledge about the framework that defines it. I will try to learn and offer a view of that in the present post. (1)


The era after SOX (Sarbanes Oxley Act in 2002) unveils differences between the USA Corpgov system, (regulatory or hard law and “one size fits all” regime) and the UK one, (based on soft law or codes, and the “Comply or Explain” principle). Differences also affect gatekeepers, (subject to regulation by Agencies such as the SEC) and the market for corporate control.


  1. Peter V. Letsou describes the shared regulatory responsibility in the USA by the States and the Federal Government.

Read more…

Is Bad Governance Chronic?

Once again Larcker and Tayan (Stanford Graduate School of Business and Stanford Closer Look Series, Corporate Governance Research Initiative (CGRI), April 14, 2016) offer us their insightful views on Corporate Governance, and we will briefly draft their contribution in this post.

In their brief article “Governance Aches and Pains: is bad governance chronic?”(1) they present us their view on Bad Governance as a common species, and particularly their perception that Bad Governance is often discovered only once bad decisions (damaging the interest of the corporation and its shareholders) have been adopted. They argue that governance quality is not easy to assess for shareholders and advisors.

In brief they advocate for a bigger awareness by shareholders of the relevance of corporate governance and the need for better discerning tools by them in order to use corporate governance more as an indicator for future bad performance than as a proof that there was a something that had to be tackled before the damage happened.

Larcker and Tayan describe some cases that help them expose their views: Read more…

What to do with the “Comply or Explain” Principle?

November 22, 2015 1 comment

Most European Corporate Governance codes are based in such a principle, which provides what is usually called “soft law”, that is a set of recommendations firms should follow to adopt best CG practices. They explain why they don`t comply if this is the case. The UK CG code was a leader in this approach, followed for example in Spain, but also in Singapore, etc.

Nevertheless serious critics have emerged, regarding:

  • The (low) quality of explanations,
  • The absence of shareholders´ engagement in oversight activities,
  • The lack of oversight competencies on any regulatory body, as to the kind of explanations companies offer in their CG reports.

This set-up´s main value is its flexibility, so that any firm can adopt it whatever its industry, size, structure, etc.

These are the general considerations introduced by George Hadjikyprianou (Univ. Leicester) in his paper “The Principle of “Comply or Explain” Underpinning the UK Corporate Governance Regulation: Is There a Need for a Change?, published in May 2015, (1). He then analyzes the degree to which the Principle reaches its objectives.

Is the Principle working? Read more…

What`s compensation like at Royal Bank of Scotland?

Back in 2008 Royal Bank of Scotland was bailed out by the British government, which bought a 79% stake for some £ 45 bn. Since then the bank has recognized losses every year, up to a total £ 43 bn. (1)

After RBS released its deceiving 2014 results, with a new £ 3.5 bn loss, their Remuneration disclosures for 2014 were widely captured by the media. Compensation has become a complex issue, and it is very difficult, even for those used to read the said disclosures, to extract “a complete truth”. This has been the case this time. See for example the article cited below in (2).


I read carefully their disclosures, and apart from some mechanisms used to circumvent certain rules while complying with the bank`s obligations, I`d rather say the disclosure is quite clear and the rules governing compensation matters at the bank quite acceptable.


I will make a comment on it, that will necessarily be too short. Read more…

Challenges and Trends for boards in the near future

October 12, 2013 Leave a comment

There are a number of studies or surveys that try to depict a picture of boards in the near future: the challenges, the ongoing trends, the changes to come. A small description of the main topics is outlined in what follows:

  1. Composition, structure and performance.
    1. Composition. Starting with a skills matrix, knowing where a board stands, what the board ideally should have, allows to build a better skill set for the future. The board must be decided to change if needed, as turnover is normally slow; it needs to act fast if it wants to avoid to fall short in proxy contests; if so, a sharp and damaging renewal of the board forced by shareholders will not take place.
    2. Size. Increasing the size could help add the necessary skills when turnover is too slow, but size`s impact in the effective job of the board is to be considered.
    3. Specific Education. Board directors will ideally soon have specific knowledge to carry out their fiduciary duty in each of the existing board committees, whatever their original background, (finance, human resources, and so on).
    4. Independence. An independent chair, (or and effective lead director), and a number of other independent directors that will serve in the Audit, Compensation, Governance and Risk committees, (at least), will become a norm in every public company, and perhaps also in private growing companies.
    5. Industry expertise. If a board is to hold management accountable, industry expertise needs to be present at the board, which is not always the case.
    6. Shareholder support: its relevancy increases each year, so that directors feel they can`t be reelected without the shareholders`approval, so they need to be proactive to their requirements.
    7. Tenure. The idea of a term limit if independence and effectiveness is to be maintained is slowly being imposed. It may be nine, twelve, or a different number of years.
    8. Diversity. Related to the tenure, as renewal is the only source today for higher diversity, this is a great challenge. Regulators will push for results, and quotas are always at reach, so boards should really enhance their diverse experiences. Read more…

The case for Corporate Governance

November 18, 2012 Leave a comment

Mr. Lipton, the poisson pill inventor back in 1982, recently wrote “The shareholder as owner, principal-agent model is a flawed model as applied to the modem public company. It does not provide an affirmative basis for the adoption of shareholder access proposals”, (“Twenty-Five Years After Takeover Bids in the Target’s Boardroom: Old Battles, New Attacks and the Continuing War”.This led me to revisit the theories that back some usual Corporate Governance principles of our days.

Corporate Governance is supported by several theories, basically the Principal-Agent one, based on information asymmetries, but it is not the only one. Let`s review the different foundations, not always disconnected among themselves.

  1. The Agency Theory.

Adam Smith, (1776), Bearle and Means, (1932), first explain their concern about separation of management and ownership. But the seminar contribution arrives in 1976 with Jensen&Meckling`s “Theory of the firm; management behavior, agency costs and ownership structure”.

Managers, (agents), are hired to maximize shareholders`s returns, (they are principals). As they do not own the corporations`s resources, they may act in their own interest, at the cost of principals. What follows is, first, an efficient split of risk bearing among agents and principals, and second, a correct monitoring through contractual monitoring and bonding. The aim is minimizing the efficiency losses, or “agency costs”.These costs are (i) monitoring costs, (incentive systems, incomplete contracting, and monitoring), (ii) bonding costs, (resources spent in assuring principals that no action against their interests will be done), and (iii) residual losses, (those not prevented from occurring in any case).

Jensen and Meckling do not advance in their view on how corporations establish monitoring systems. Fama, (Agency Problems and the Theory of the Firm, 1980), develops the idea in that sense. Internal and external managerial labor markets are the discipline enhancers in the firm. Risk bearers, (security owners and residual claimants), can sell their stakes with no relevant transaction costs in the capital markets, but rely on an efficient market that correctly values securities. Managers can expect the human capital market to correctly value their services, according to their previous experiences related to firm failure or success, so that they have correct incentives to behave to maximize firm`s performance. On the other hand, internal managers` pressures also force managers at the top to pursue the firm`s best performance, (all managers putting pressure for their future wage maximization). This would work jointly with certain monitoring systems.  The board is the system through which top managers are monitored: it should not be controlled by security owners, (given their diversified portfolios), nor managers, (if they supervise themselves, they would tend to extract wealth from security owners), but include also outsiders, (they would be controlled by their services` markets); for other resources, there may be other more efficient features so that they defend their interests, (unions and so on would control managers on their behalf), rather than participating in the Board. The capital market takeover threat represents for Fama only a last resort mechanism, given the obstacles it confronts in the case of big corporations.

Fama and Jensen, (“Separation of ownership and control”, 1983), argue that firms efficiently separate decision management and decision control rights, both at the top, (managers and board) and lower levels, (managers and workers). Managers keep for themselves Initiation and Implementation, with the specific knowledge required. The risk bearers keep decision control rights, (ratification and monitoring). Whenever risk bearing is diffused, residual claimants are also separated from decision control, thus agency costs appearing. Separating decision management and control helps avoiding those costs, allowing valuable knowledge being hired at every corner of the organization. And the Board, as a body that holds ratification and monitoring powers, is helpful in that process.

  1. The Transaction Costs economic foundation for Corporate Governance.

Following Hart, (“Corporate Governance: Some theory and implications”, 1995), agency costs are not enough to justify governance principles, as contracts could be drafted to reward agents in a performance based system, (that would avoid agency costs). Nevertheless, contracts are incomplete, and cannot include all future events with the corresponding rewards, (because of the cost of thinking all possible events, the cost of negotiating them all, and the cost of writing an enforceable contract).Corporate governance establishes a mechanism to allocate residual rights of control over the firm`s non human assets, when their usage has not been settled previously.

Following Williamson, (Corporate finance and Corporate Governance, 1988), the transaction costs theory introduces the agent`s bounded rationality and opportunism. So, governance is about crafting governance structures that save on bounded rationality, while avoiding opportunism. “Incomplete contracting in its entirity”, introduces the need to be aware of prospective misinformation, and the need to (i) realign incentives and (ii) draft governance structures that fill the gaps. The Board is an endogenous development to safeguard equity financing. Transaction costs are considered ex post: (i) maladaptation costs when misalignment appears in relation to the “shifting contract curve”, (ii) bilateral costs incurred to obtain alignment, (iii) cost of governance structures, and (iv) bonding costs, the first being the key feature. Williamson introduces the idea that the debt equity choice is not only a corporate finance concern, but also a governance one, related to asset specificity, (that favours equity, with a more intrusive oversight and involvement through the Board of Directors). The boards reduce cost of capital when assets are specific and not redeployable, (a case in which debt imposes too high a burden).

  1. The Resource Dependence Theory.

Udayasankar, (The foundations of Governance Theory: a case for the Resource-Dependence Perspective, 2005), refers to a resource based view of firm performance, where the focus is on how the firm generates unique and valuable resources, and to the fact that Corporate Governance may help in that process, instead of being just a tool for the preservation of existing assets and profits in the firm, and their correct distribution. Following Pfeffer and Salanchik, (1978), directors, through their linkages can procure expertise, reputation and a positive valuation of the firm, legitimacy, and so on; they can also provide tools to afford uncertainty, and help for the firm to generate, maintain and develop specific assets and knowledge, which result in the competitive advantage of the firm. The model is compatible with shareholder maximization, as governance would help bring capital in a differential manner, (helping to deal with agency costs, thus this theory remaining embedded in Resource-dependence theory).

  1. The Stakeholder Theory.

Donaldson and Preston, (The stakeholder theory of the corporation: concepts, evidence and implications, 1995), argue with many that corporations have stakeholders, (owners of a constellation of cooperative and competitive interests with intrinsic value, all of them embedded in the firm). And their support relies on the Property Rights theory, (which is slightly ironic, if the theory is to be opposed to the maximization for shareholders theories). Property is a bundle of many rights, (Coase, and others), some of them restricted. If rights are relations among humans, property rights cannot be separated from human rights, and consequently that introduces restriction on the use of rights because of others`interests. So, managers do not act solely on behalf of owners. The managerial implications are: a) Who is a legitimate stakeholder, (one having a contract with the firm, belonging to its broad community, receivers of either benefits or costs, etc), and b) How do managers need tobehave? They need to be aware of those interests, but the danger of opportunism still remains, so the theory needs to be developed in rules and sanctions. Mahoney, Asher, and Mahoney argue that all the economic value generated for all stakeholders needs to be considered, and all relationships also, so as to understand how the value is distributed, (instead of only considering distribution of profits to shareholders).

Although it is difficult to disagree with Mr Lipton that all those theories may lack a sound empirical and thus normative foundation, there is just enough evidence that when corporations are controlled by managers, without an appropriate corporate governance framework, it is not guaranteed that all interests affected by the firm performance are well and fairly treated, that the distribution of economic value is fair, and survival assured.