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Introduction
A number of authorities have given various definitions of corporate governance. Mallin argues corporate governance is a broad term that encompasses various aspects such as concepts, theories and practices of board of directors, executive and non executive directors (2). Corporate governance focuses on how boards, investors, business executives, auditors and regulators interrelate. According to Evans, corporate governance can be viewed as a link between various key players involved in shaping the direction and performance of corporations (5). In their definition, Monks and Minow suggest that these key players comprise of business executives, board of directors, investors, customers, business financiers and other interested groups. On the hand, the World Bank notes that corporate governance is a mixture of law, regulations and proper practices within the private sector which enhance the functioning of corporations (Evans 22). Thus, this blend of key players enables corporations to generate the required financial and human resources which necessitate the realization of long term economic benefits for investors and the protection of stakeholders interests. Corporate governs calls for transparency and the enforcement and protection of investors interests.
A number of corporate governance regimes exist. However, Europe is characterized with a dominance of capitalism as the mode of production. In Germany, a pluralist system (continental model of capitalism) of governance tends to predominate. A pluralist system endeavors to balance interests of stakeholders and discourages favoritism of any single group. On the other hand, the U.K system of corporate governance supports the principle of shareholder sovereignty (Anglo Saxon model of capitalism); the returns of the corporations stakeholders are given priority (Evans 23). This paper endeavors to give a detailed comparison between the corporate governance regimes in the U.K and Germany.
An Overview of Corporate Governance in Germany and the U.K
In Germany, the ownership of corporations tends to be contained in a small number of block holders (Mallin). Amazingly, family members, banks and other firms that belong to cross shareholding networks are the block holders. In fact, these groups form two thirds of Germanys share ownership. These block holders closely control their businesses or companies by employing board representatives. The stock market is small but solid; it is rare to encounter hostile takeovers. Banks are key industrial financiers. The role of the banks in industrial finance is reflected by their remarkable influence through board representation and voting rights that is backed by ownership of shares. Banks influence on industrial finance is also reflected seen when they act as proxies for less established shareholders. Traditionally, the social role of corporations is given the priority over the hunt for profits by shareholders (Mallin). This aim is necessitated by the normative and legal traditions that call for impose pressure on corporations to observe their social roles. For instance, Article 14(2) of the German constitution indicates that property imposes duties and it should serve the public as well. Edwards, and Fischer (1996) argue that patient capital is encouraged by the environment created by the ownership structure of German companies together with financial, legal and normative traditions. This is necessitated by the management of corporations. The focus of these companies is not on profits, but on the products, turnover, market share and the number of employees on the payroll. In addition, block holders are encouraged to come up with strategies that will result into a long term growth and development of the company. These block holders are advised to engage in solid trust based partnerships with other stakeholders in their struggle of generating viable business strategies.
Although the communitarian aspects of German corporations tend to be overemphasized, there is a notable urge for consensus during decision making and partnership among stakeholders. In doing so, stakeholders appreciate the value of their interests when their companies realize the intended long term growth. Consequently, the partnership between stakeholders takes an inclusive approach. In addition, employees have a solid representation during negotiations with the management. This is often achieved through work councils and a government devised system of co-determination that empowers employees with 50 percent supervisory board seats. Generally, German companies run a two phased board system; this consists of the management and the supervisory board. Thus, giving 50 percent of supervisory seats to employees enables them to voice their interests with an outstanding command.
In the U.K, the ownership of shares tends to be dispersed over a large number of investors. These investors are mostly institutional. Each of the investors has a small ownership of the shares of the company. At times some investors partner to buy shares in a company. However, such shared ownership does not exceed thirty percent of a companys equity. In addition, individual investors have a decimal percentage in the total equities of a given company. In other words, individual investors do not own lamp some shares in a company. In fact, holdings of over ten percent are not common and they are often accounted for by small businesses that are controlled by the families which own them. On the other, hand equity markets serve as the key corporate financiers of U.K corporations. This results from the banking sectors lack of integration with industrial strategy at macro and micro levels. Edwards and Fischer (1996) note that small investors demand for the protection of their interest from rent seeking managers first before investing any given company. This is due to the U.Ks corporate governance principle that encourages shared ownership of a company through the partnership of a number of investors. For that matter, the control of the company is governed by collective decision making by the shareholders. Thus, individual investors often seek to have their interests in the company protected before investing in it since they have little control of the company. In order to address the challenges of principle-agency that arise from dispersed ownership, UK financial market regulation and various self regulatory and company laws have been formulated (Mallin). These regulations focus on the maintenance of liquid capital markets and prevention of exploitation by the corporate governance. The regulations also ensure that the decisions taken by corporations are in agreement with shareholders interests by enhancing transparency, accountability, disclose and introducing of shared executive pay.
In actual sense corporate governance in the U.K is led by the ideology of shareholder sovereignty through the protection of shareholders property rights (Mallin). As a result, corporate legislation and case law in the U.K rely on the principle that the companys top management are charged with the responsibility of running the company in a manner that upholds the shareholders best interests (Mallin). These principles exclude any chances of pluralist mode of governance that encourages the existence of a range of interests and gives the interested groups equal play. However, this mode of corporate governance provides a chance for the cultivation of collaborative links between companys investors and future stakeholders. Moreover, managers are monitored by shareholders; the managers are supposed to devised mechanisms that enhance the protection of shareholders interests (Mallin).
Board structure in the U.K and Germany
In Germany, company law (Aktiengesetz) requires companies to divide the company governance between a supervisory board and a managing board and companies with more than 500 employees should include employee representation on the board (Mallin). Fifty percent of supervisory seats are given to employees to enables voice their interests with an outstanding command (Mallin). In contrast, the British company law contains mandatory rules on neither of these matters, though it prohibits neither feature and seems sufficiently flexible (Mallin).
Board structure in the U.K
Cases of gross management in the UK led to the publication of a number of reports in the 1990s (Mallin). In an attempt to solve the managerial challenges, a committee based in Cadbury was selected to provide the way forward. After completing its investigations the Cadbury committee formulated a code of best practice to govern corporate governance (Mallin). The code dictates the roles and appointment of company executives, encourages the independence of non executive demands for flexible internal reporting procedures and tighter internal financial controls. Later, in 1995 another committee (Greenbury committee) that aimed at addressing the issue of directors pay was formed (Mallin). The committee suggested that company executives pay packages be determined by company a remuneration committee that consists of non executives. The Greenbury report also indicated that share awards under the executives share option and long term inceptives plans should be guided by the companys financial performance. On the other hand, another report published by Hempel Committee in 1998, covered a good number of the issues that were addresses by earlier reports. The committee suggested Principles of Good Governance (Mallin 35). Principle of good governance monitors the power of executive directors by for example separating the powers and roles of the chairman and the chief executive. The principle of good governance also ensures that the non executives have a solid and independent voice and a more accountability to shareholders at the AGM. In 1998, the code of best practice and the principles of good governance were merged to form the combined code which was then formally incorporated in the listing rules of London Stocks Exchange (Mallin). Thus, a board director consists of a two types of directors; executives and non executives. The executive directors roles include setting the company objectives, implementing the objectives, supervising the management of the company and reporting to the shareholders the progress of the company. On the other hand, non executives work on part time basis and they are involved in the different roles like acting as the companys chairperson, and sitting on various vital committees. Non executives form members of key committees such as the Remuneration committee, Audit committee and Nomination committer (Mallin).
Most importantly, non executives are viewed as safe guarders of the corporate good and they form a link between the company executives and shareholders. These non executives monitor actions take by executives and they to ensure that the company is run in accordance with the wishes of the shareholders and other stakeholders. Non executives form a vital organ of corporate governance in the U. K. They provide a guaranty of integrity and accountability of companies. This guarantee is essential in the legal and commercial sector.
In the U.K corporate governance, it is believed that non executives may contribute crucial external business expertise to the affairs of the company. It is believed that non executives can seek risks and opportunities for the company which the executives might have ignored. In addition, non executives are experienced businessperson and may offer valuable business connections. Moreover, non executives are required by some companys during a transition in company management or repositioning of the company.
However, non executives often face several limitations. Since they are employed on a part time basis, they might not be able to devote enough time to the company. This may hinder their understanding of how the company is managed. On the hand, non executives might lack the expertise to comprehend complex business issues. Despite these limitations, the corporate governance in the UK suggests that the pros outweigh the cons. Thus, they find non executives to be of immense help in managing corporations. In fact, the Hempel committee suggested that board of directors need to include a significant number of high caliber executives in the company management. They indicated that non executives on their part should offer independent judgment on appointment issues, resources, strategy and performance. The report also suggested that non executives should not be involved in the direct management of the company because this could interfere with their judgment. According the report, non executives are supposed to be appointed on specified terms of office and their reappointment should not be automatic. The boards of directors are supposed to be actively involved the screening of the non executives during their recruitment. The report also recommended that one third of the board of directors should be made of non executives.
Case study of Non executives in Large UK firms
An empirical survey of non executives employed by of 51 UK firms drawn from 17 industrial sectors provides enough evidence to show how UK corporations have embraced the use of non executives in their management (Evans 45). According the study, non executives formed one half or more of the total board members in 36 out of 51 companies studied. The percentage of non executive board members compared to the total board membership ranged form 25%-80% (Evans 45). The study found out that companies operating in a small proximity had a small number of non executives compared to those that have a global outreach. These findings provide solid evidence that supports the use of non executives in corporate governance in the UK (Evans 45).
Shareholder Ownership in the UK
In the UK institutional investors are exceptionally powerful because of the level of their ownership. According to as report produced by the Office of National Statistics in 2005, institutional investors own the majority of the UK equity, with insurance companies such as the Standard Life owning 17 percent of the UK equity by the end of 2004 (Mallin). Policy makers argue institutional investors are extremely important in ensuring that corporate governance best practices are followed. This has resulted into a sea of change in the UKs corporate ownerships. These changes have led to a shift of share ownership from individual ownership to institutional ownership. Office of National Statistics has reported that in 1963, individual investors in the UK owned 53 per cent of shares (Mallin). The percentage of individual share ownership has fallen steadily in the last forty years. In 1989, it had fallen to 21 percent. Amazingly, individual share ownership had fallen to 14 percent in 2004. In contrast, institutional ownership has increased steadily over the past five decades (Mallin). Most of the institutions that own shares are large insurance companies and pension funds. The Office of National Statistics has indicated that the percentage of institutional ownership has grown from 10 percent in 1963 to 17 percent in 2004. On top of thus, the corporate industry of the UK has realized a dramatic increase in the number of foreign institutional investors.
The Office of National Statistics has reported a 25 per cent increase in the foreign institution based investors (Mallin). The report by the Office of National statistics also indicates that the number of insurance companies and pension funds has increased steadily in the last forty years. Many of these investors are U.S investors who have traditionally tended to be more proactive in their approach to governance issues. The increase in the number of U.S investors in the UK together with increased interest in both corporate governance and the role of foreign investors as activist investors, there has been increasing pressure on institutional investors to vote their shares. Various groups have examined the problem of voting shares in the UK in trying to ensure that these problems are identified and resolved and enhance future voting levels. The increasing focus on the role of institutional investors was evidenced by the institutional shareholders committee established in 2002. The committee recommended that institutional shareholders clearly state their policy on activism including voting (Mallin). On top of that, they should monitor the progress of their investee companies, intervene as appropriate, and evaluate and report on their activism.
Another feature that has gained more emphasis in the last few is years are that of socially responsible investment (SRI). Thus, UK pension fund trustees have had to take account of SIRI in their statements. This change means that pension fund trustees must state the extent to which social, environmental or ethical considerations are taken into account in the selection, retention and realization of investments. SIRI has also received a boost form the British Association of Insurers (Mallin). This association is an instrumental voice in institutional investments involvement in corporate governance issues.
Monitoring and Managerial Remuneration: UK
In the UK the managers who run business in large firms do not have shares in the business (Mallin). However, various corporate schemes have been devised to ensure that managers follow profit driven policies. This has been necessitated by the separation of decision management from decision control. In addition, managers are given performance based pay and performance based incentives (Mallin).
Shareholder Ownership in the Germany
The vast majority of Germany Companys have a single shareholder who owns 25 per cent or more of the voting capita (Evans 34). In this respect, the structure of share ownership in Germany is exceptionally different from that in the U.K which necessitates the effective control of the firms. This feature of share ownership in patterns in Germany companies is the major reason for the unimportance of hostile takeover bids as mechanisms of corporate control in Germany (Evans 45). The ownership right of 25 per cent or more empowers the shareholder to bock various decisions at the shareholders annual general meeting. This feature also gives the shareholder effective control of the votes in the meeting. Such a large share holder is likely to have incentives to incur the costs involved in monitoring the firms management performance. This may thus be the reason why agency problems which arise due to the lack of monitoring and control of managers by suppliers of equity finance are much less serious in Germany than in the UK owing to the structure of ownership in Germany.
Ownership and voting Rights
Seger (7) and several other studies provide statistics on the concentration of ownership. For instance, Seger (8) documented that out of 107 large corporations, 85 percent have a shareholder owning 25%, and 57 per cent have a shareholder owning more than 50 per cent of the equity. Boehmer (8) notes this figures are a representative all listed firms over the period from 1985 to 1997. He also indicates that in 1997, 77% of the median firms voting rights associated with officially traded shares are controlled by large shareholders, corresponding to 47 percent of gross market capitalization. Germanys corporate law allows various devices that delink control rights from cash flow rights. The law explicitly allows non voting shares up to the amount of ordinary shares outstanding. Non voting shares are a potentially powerful mechanism, to double the relative voting power of ordinary shares but are primarily used by relatively small, family owned companies. Non voting shares actually have a dominant right that is triggered by two consecutive omitted dividends payments. Since the securities law prohibits the disclosure of ownership of non voting shares, they can represent a potentially important pool of hidden voting power.
On the other hand, multiple rights per share are generally illegal but may be authorized by state authorities. Company statutes may further impose voting caps that limit the percentage of votes by individual shareholders. In practice, multiple voting rights are of little importance and are limited to few formerly state owned firms. Voting caps are often claimed to educe the power of large shareholders. Other important devices to leverage control are group structure involving cross shareholding, contractual arrangements, personal interlocking of management, and supervisory board members and pyramids. Cross holdings effectively imply holdings of own shares and increase the voting power of any existing block holder. In addition, they promote voting cartels where management teams vote in favor of each other at the respective annual general meeting. Contractual arrangements delegating control are widely used in German groups. Pyramids on outside equity on various levels may concentrate highly leveraged control at the top layer.
Probably, the most important source of voting rights deviating from ownership is the German proxy voting system. The proxy vote may be cast by an organization, bank, or other agent of the shareholder. The shareholder has the option to real his name, regardless of whether he provides explicit instructions on how to vote his shares or not. Typically shareholders remain anonymous, deposit their shares with banks, and grant general power of attorney to that bank with respect to all shares with their portfolio. Since disclosure of proxy vote is not legally mandated, they represent another source of potentially hidden voting power.
Blockholders
According Boehmer (20), foreign shareholders, the government and families are the most important Germany shareholders. Boehmer (6) notes that compared to other developed economies; the German stock market is dominated by large stakeholders. Large blockholders control 77 per cent of the median firms voting rights, corresponding to 47% of the market value of all firms listed in the Germany official markets. Banks, industrial firms, holdings, and insurance companies control about two thirds of this amount. Most importantly for outside investors, due to current legislation it is clear for neither group who exerts ultimate control over the shareholding firm itself. For the remaining blockholders, only blocks controlled by voting pools can be traced back to the highest level of ownership. Taken together, both groups control only 5.6 percent of all reported blocks. The German government controls 8 per cent and it is not clear who is ultimately responsible for the consequences of decisions. Without knowing whose interests are represented using voting rights, it is very difficult for outside investors to assess the inceptives of large shareholders in the same firm to cat in the interest of shareholders.
Managerial Remuneration in Germany
Empirical analysis of the pay performance relation is difficult in Germany because only aggregate but no individual compensation sis disclosed. Furthermore, it is very common for managers of the parent firm to hold a supervisory seat on the boards of one or more subsidiaries. Since their composition includes fractions of several aggregates, it is nearly impossible to calculate the total remuneration of the most important managers. Despite these difficulties Schwalbach and Grabhoff (80) analyze the relationship between managerial pay and performance and find little of evidence a positive sensitivity. Other studies have found a marginally significant positive relation. Thus, different studies samples and methodologies reveal divergent estimates. Unfortunately, due to the data problems mentioned earlier, neither result can ultimately answer the question on how remuneration depends on performance.
Block Holders
Large block holders have incentives to maximize the value of their shares. Whether this involves maximizing firm value depends on the degree to which they can extract transfers from small shareholders. First, the typical German group involves several firms with outside equity and several firms without. Thus, it might be rational for large shareholders to transfer subsidiaries resources with equity from outside to other group units. Second, Germanys law effectively allows sizable transfers to block holders once a coalition holds at least 75 per cent of the votes. Specifically, a 75 per cent majority may actually make a binding tender offer to minority shareholders below market value. The 75 per cent need not even be held by one party, since two or more large blockers may collude. A study conducted by Wenger, Hacker and Knoesel (60) found out that out that 39 out of 53 cases the offer is below the market value. Additionally, block holders may use crossholdings and pyramidal groups to transfer resources from subsidiaries with outside shareholders to units without. Therefore, it is not clear whether it is easier for block holders to increase the value of their stake by acting on the behalf of all shareholders, an issue clearly deserving future research efforts.
Monitoring: The Germany Case
In Germany, block holders and banks are the main candidates for efficient and effective monitoring of management. Thus, the question is whether they use their power to act on behalf of other stakeholders or to act in their own interests. Due to the important public policy implications most empirical studies analyze the relationship between bank control and firm performance. Most studies view ownership structures as selected performance measures to be a function of bank control, other ownership characteristics, and various control variables. Unfortunately the results are inconsistent with each other and extremely sensitive to the sample, period and methodology.
Specifically, Gorton and Schmid (45) obtain evidence of positive relation between a concentration measure of bank votes, bank representation on the supervisor board and the ratio of bank loans to total debt on average performance between 1968 and 1972. Gorton and Schmid (7) find that bank ownership significantly increases the return on equity while proxy votes have no effect. When market performance is measured by market to book ratio of equity, the result is less pronounced. The authors also note the fraction of bank ownership representing the minimum varies with the concentration measures of all shareholders and banks, respectively.
Conclusion
The World Bank notes that corporate governance is a mixture of law, regulations and proper practices within the private sector which enhance the functioning of corporations. Corporate governs calls for transparency and the enforcement and protection of investors interests. Thus, this blend of key players enables corporations to generate the required financial and human resources which necessitate the realization of long term economic benefits for investors and the protection of stakeholders interests. Corporate governs calls for transparency and the enforcement and protection of investors interests.
A number of corporate governance regimes exist. However, Europe is characterized with a dominance of capitalism as the mode of production.
In Germany, a pluralist system (continental model of capitalism) of governance tends to predominate. A pluralist system endeavors to balance interests of stakeholders and discourages favoritism of any single group. On the other hand, the U.K system of corporate governance supports the principle of shareholder sovereignty (Anglo Saxon model of capitalism); the returns of the corporations stakeholders are given priority.
In Germany, the ownership of corporations tends to be contained in a small number of block holders. Amazingly, family members, banks and other firms that are belong to cross shareholding networks constitute are the block holders. In fact, these groups form two thirds of Germanys share ownership. These block holders closely control their businesses or companies by employing board representatives. The stock market is small but solid; it is rare to encounter hostile takeovers. Banks are key industrial financiers. The role of the banks in industrial finance is reflected by their remarkable influence through board representation and voting rights that is backed by ownership of shares.
In the U.K, the ownership of shares tends to be dispersed over a large number of investors. These investors are mostly institutional. Each of the investors has a small ownership of the shares of the company. At times some investors partner to buy shares in a company. However, such shared ownership does not exceed the thirty percent of a companys equity. In addition, individual investors have a decimal percentage in the total equities of a given company. In other words, individual investors do not own lamp some shares in a company. The paper has found that corporate governance in the UK and Germany differs significantly.
Works Cited
Boehmer, A. (1999). Who controls Germany? An empirical assessment. Berlin: University Berlin Press.
Edwards, J, andFischer, K. (1996). Banks, Finance and Investiment in Germany. Cambridge: Cambridge University Press.
Evans, J. (1995). Decision processes, monitoring, incentives and large firm performance in the UK. Aberdeen: The Rober Gordon Univerity Press.
Gorton, G, and Schmid, A. (1998). Universal banking and the performance of German firms,Workingpaper. Pennsylvannia: University of Pennsylvannia Press.
Mallin, C. (2006). International Corporate Governace: A case Study Approach. Cheltenham: Edward Elgar Publishing.
Schwalbach, J, and Grabhoff, A. (1997). Managervergütung und Unternehmenserfolg. Munich.
Seger, F. (1997). Banken, Erfolg und Finanzierung. Wiesbaden: Gabler Verlag.
Wenger, E, Hecker, R, and Knoesel, J. (1996). Abfindungsregeln und Minderheitenschutz bei. Munich: University of Würzburg Press.
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