Corporate Governance in Asia

Julian Roche

• Publisher: Routledge
• Year: 2005
• ISBN:
  9781134299492
• Edition: 1
• Topic: Business
• Subtopic: Business generale
• Index: Business

The impact of the economic downturn and the increase in financial scandals emerging from major corporations has generated a growing interest in governance issues and has emphasized the need for companies to be transparent in their dealings with shareholders and the markets. Although the issues in Asia are fundamentally similar to those in the rest of the world, there are some crucial differences in the way in which Asian corporations acknowledge and confront these issues and in the political and legal frameworks under which they operate. Using examples of good and bad governance, Roche analyzes if the Asian approach to governance issues is unique.

Business and finance students, as well as executives with an interest in Asian business or corporate governance will find this an authoritative and insightful guide to this complex and important topic.

Chapter 1: The background

• Introduction
• Huge interest in corporate governance
• Is a definition still useful?
• The cultural and historical perspective
• Institutional prevalence
• What does the study of corporate governance entail?
• The objective of corporate governance
• What corporate governance is not
• Systems of corporate governance
• Transition economies
• How to run a corporate governance system
• Examining corporate governance models
• Family-based governance (FBS)
• Corporate governance in the West: a review of the US and UK
  • The United States
  • The United Kingdom
• Corporate governance in Asia
• The lingering effects of socialism
• Is it all good news?

INTRODUCTION

As this book has a practical and regional focus, arguably we should not dwell too much on the theoretical and global background. But it is important to understand what is meant by ‘corporate governance’, and the nature of the economies and corporate structures from which the concept and implementation arose. The original theoretical key was widely dispersed ownership of the corporation, which resulted in the famous idea expressed by Berle and Means, the authors of the most famous book on corporate governance, that ‘the owner of industrial wealth is left a mere symbol of ownership’¹ as the control over companies really lies with professional managers. Western² literature on corporate governance often starts from this so-called ‘principal–agent relationship’ and the problems which are alleged to flow from it. This did all stem from Berle and Means who concluded that almost half of large American corporations did not have a single owner who controlled more than 20 per cent of the stock, and argued that the stockholders surrendered ‘disposition of use of the enterprise to those in control’³ by which they meant senior managers and the board. Addressing the future of the US corporation, Berle and Means also said:

This [corporate] system bids fair to be as all-embracing as was the feudal system of its time. [It] demands that we examine both its conditions and its trends, for an understanding of the structure upon which will rest the economic order of the future.⁴

The concept of corporate governance presumes a fundamental tension between shareholders and corporate managers.⁵ In this model, while the objective of a company’s shareholders is a positive return on their investment, managers may have other goals, such as the growth and reputation of the company, the security of their employment, the prominence of their division within the company, their own personal financial reward or something else quite unpredictable. Managers have the information and the decision-making power, but the many shareholders take the financial risk. Economists and consultants have suggested many solutions for this agency problem between shareholders and managers, focusing on incentive alignment – sometimes through a discipline such as Economic Value Added (EVA_tm), sometimes through stock options, somewhat discredited now. Monitoring by an independent and engaged board of directors is also supposed to guarantee that managers behave in the best interests of the shareholders.⁶ As a last resort, Chief Executive Officers (CEOs) who fail to maximize shareholder interests can be removed by concerned boards of directors, while a firm that neglects shareholder value is disciplined by the market through takeover⁷ and ultimately bankruptcy.

But when academics⁸ studied the important issue of ultimate control much more recently (i.e. they traced the chain of ownership to find who has the most voting rights), they found ownership is largely concentrated in the hands of families and the state even in Western countries; moreover, the concentration of ownership is enhanced through the use of pyramid structures, deviations from one-share-one-vote rules, cross-holdings and the appointment of managers and directors who are related to the controlling family. Think Parmalat, and it is clear that even in the twenty-first century the Berle and Means paradigm is far from universality even in the West, especially outside the US and the UK. Nor, with the risen power of private equity in the US and Europe, does it look likely to be.

What does flow from this alleged divergence between the interests of owner and manager? Does it matter? At root is an argument about legitimacy: the extent of congruence between what the firm does and what society as a whole expects it to do – which is why the ‘stakeholder’ debate is so closely linked to corporate governance and why the shape, ownership and management of a firm is relevant to its legitimacy, which is at root a political question. And about legitimation, the way in which a firm, and the financial system in general, seeks to achieve that legitimacy. Both, of course, change over time, and perhaps nowhere more so than in Asia in the coming decade where political opinion is being expressed more freely than hitherto and more demands are being placed on corporations to be legitimate, in this sense.

HUGE INTEREST IN CORPORATE GOVERNANCE

Since Berle and Means wrote their pathbreaking book, the concept has gone much, much further than the separation of ownership and control that led to the first widely accepted meaning of corporate governance. Corporate governance has become – to such an extent that it is reasonable to ask in whose interests all this analysis really is – a dominant concern among academics, practitioners, lawmakers and companies’ stakeholders. No surprise: it is because corporate governance has to do with the perennially interesting and important questions of ownership, accountability and control, incomplete contracts and agency problems, performance and incentive design. Cynically, we can also observe that it has become a feeding frenzy for academics in particular, but also for policy-makers and journalists alike. Authors, too. It was after research carried out in the 1960s and 1970s by academics at Harvard and elsewhere – Jensen, Fama, Williamson and Hart, among others – that the subject established itself as an individual field in its own right. The initial focus on comparative financial performance and the compensation packages of CEOs and senior managers broadened throughout the 1990s to include inter alia the performance of boards, the way directors were appointed and their functions, the role of independent and non-executive directors, efforts to create more diverse and inclusive boards of directors; the way executive pay in general was determined, audit practices, and a wider range of corporate social responsibility (CSR) concerns, including such issues as workplace diversity, glass ceilings for women, human rights abuses, allegations of sweatshop conditions in domestic and overseas factories, pollution and other environmental issues, the overseas sales of military hardware, the legal status of tobacco and employee codes of conduct. Reflecting public concern, in 2001 for example – which may admittedly have been close to the high water mark for shareholder activism in the US – shareholder motions were introduced to force corporate action on inter alia clean energy, genetically engineered agricultural products, products containing the PVC compound, equal opportunities, drilling for oil in the Arctic National Wildlife Refuge in Alaska, predatory lending by financial institutions, mandatory reporting on greenhouse gas emissions, overseas contractor employment (for example, slave, prison and child labour, and pay scales), and workplace discrimination, health and safety, and violence. Also, of course, the big one: revelations about accounting irregularities in the United States and elsewhere galvanized the US Administration to improve the effectiveness of corporate governance mechanisms to prevent and detect material accounting irregularities, accurate accounting now being included within the corporate governance framework. Shareholder activism in the US has become interwoven with political correctness and a profound awkwardness in the public consciousness about the role, methods and achievements of US corporations, the standard-bearers of the American way of life. It is hard to resist the temptation to observe that it has all become a political game. All this is vitally important when we come to examine corporate governance in Asia because of its alien quality.

IS A DEFINITION STILL USEFUL?

As a result of the perpetually expanding borders of the subject matter, it is not easy to define ‘corporate governance’. Moreover, depending on their perspective, different authors define corporate governance in different ways, so that a single precise or universally accepted definition does not exist. That said, it is usually worth under such circumstances trying to put some boundaries on the subject matter, especially if it threatens to engulf nearby disciplines such as CSR and the pursuit of shareholder value, so as to avoid such neologisms as The Business Roundtable Calls On Boards Of Directors To Make Security A Key Part Of Corporate Governance.⁹ We now also face the prospect of ‘enterprise governance’, which is [naturally] ‘the framework that covers both corporate governance and business governance’. Some definitions then . . .

A useful and still widely accepted definition of corporate governance is that set out in the Principles of Corporate Governance developed by the Organisation for Economic Co-operation and Development (OECD) in 1999:

Corporate governance is the system by which business corporations are directed and controlled. The corporate governance structure specifies the distribution of rights and responsibilities among different participants in the corporation . . . and spells out the rules and procedures for making decisions on corporate affairs. By doing this it provides the structure through which the company objectives are set, and the means of attaining those objectives and monitoring performance.

(OECD, 1999)

Later, as the previous definition gained widespread acceptance, the OECD offered a broader definition instead:

. . . corporate governance refers to the private and public institutions, including laws, regulations and accepted business practices, which together govern the relationship, in a market economy, between corporate managers and entrepreneurs (‘corporate insiders’) on one hand, and those who invest resources in corporations, on the other.

(OECD, 2001)

In its narrowest sense, corporate governance can be viewed as a set of arrangements internal to the corporation that define the relationship between the owners and managers of the corporation. An example is the definition by key shareholder activists that corporate governance:

. . . is the relationship among various participants in determining the direction and performance of corporations. The primary participants are (1) the shareholders, (2) the management, and (3) the board of directors.

(Monks and Minow, 2001)

Corporate governance, according to one of its most famous Western practitioners and analysts, Sir Adrian Cadbury, is:

. . . holding the balance between economic and social goals and between individual and communal goals. The governance framework is there to encourage the efficient use of resources and equally to require accountability for the stewardship of those resources. The aim is to align as nearly as possible the interests of individuals, corporations and society. The incentive to corporations is to achieve their corporate aims and to attract investment. The incentive for states is to strengthen their economics and discourage fraud and mismanagement.

(1992)

A US lawyer offered this definition:

In its most comprehensive sense, ‘corporate governance’ includes every force that bears on the decision-making of the firm. That would encompass not only the control rights of stockholders, but also the contractual covenants and insolvency powers of debt holders, the commitments entered into with employees and customers and suppliers, the regulations issued by governmental agencies, and the statutes enacted by parliamentary bodies. In addition, the firm’s decisions are powerfully affected by competitive conditions in the various markets in which it operates. One could go still further, to bring in the social and cultural norms of the society. All are relevant, but the analysis would become so diffuse that it risks becoming unhelpful as well as unbounded.

(Professor Kenneth Scott of Stanford
Law School, March 1999)

The World Bank defined corporate governance from the two different perspectives:

From the standpoint of a corporation, the emphasis is put on the relations between the owners, management board and other stakeholders (the employees, customers, suppliers, investors and communities). Major significance in corporate governance is given to the board of directors and its ability to attain long-term sustained value by balancing these interests. From a public policy perspective, corporate governance refers to providing for the survival, growth and development of the company and at the same time its accountability in the exercise of power and control over companies. The role of public policy is to discipline companies and, at the same time, to stimulate them to minimize differences between private and social interests.

(World Bank, 1999)

According to the World Bank, within the governance framework there are internal and external forces facing one another and affecting the behaviour and activities of existing corporations. We may ask whether it is really necessary to make such an arbitrary distinction, but according to the World Bank, internal forces define the relationship among the key players in the corporation, whereas external forces are used as amplification for disciplining the behaviour of insiders. In developed market economies, these forces are institutions and policies that insure greater transparency, monitoring and discipline for corporations. Specific examples of external forces include the international and national legal frameworks for competition policy, legal machinery for enforcing shareholders’ rights, however frail and faulty, the system of accounting and auditing, a well-regulated financial system, the market for corporate control, and the bankruptcy system. These internal and external elements have come together in different ways to create a range of corporate governance systems that reflect market structures, legal systems, traditions, regulations and cultural and social values.

For sheer succinctness, this definition is hard to surpass:

Corporate governance refers to the processes and structures by which the business and affairs of an Institution are directed, managed and controlled.

(MAS, 2003)

Not to be outdone, a recent Asia-Pacific meeting of Directors came up with this ringing declaration:

Statement on Corporate Governance by the Confederation of Asia-Pacific Chambers of Commerce and Industry (CACCI)

1. Good corporate governance is a fundamental pillar of the competitive, liberal market economy.
2. CACCI and its member organisations consider good corporate governance to be a virtue of itself, an asset to business, and essential to the credibility of commerce and industry in the communities, societies and nations in which they operate.
3. By corporate governance we mean the structures through which the objectives of the company are set, the means by which those objectives are attained, the monitoring of performance and the ways it can be improved. Good corporate governance is the responsibility of the board of directors and m...